At first glance, the most surprising aspect of CalPERS’s report about the private equity performance fees it pays is not the large size of the fees but rather the small size of the returns.

According to the report, CalPERS’s private equity portfolio has yielded only 11.1% since inception. In comparison and as Alexandra Stevenson of the New York Times points out, an investment across the Standard & Poor’s 500 over the same period of time would’ve yielded 9.4%. That means private equity provided CalPERS with only an additional 1.7% per annum. That’s small compensation for big risks and fees.

David Crane didn’t say if that was gross (who cares what the gross was) or net (in which case, who cares about the fees).

Last week California’s largest public pension fund, CalPERS, issued a misleading press release about its private equity investments.
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Now, compare that to CalPERS’s press release about returns from its private equity investments:

Notice what’s missing? Unlike the mutual fund, CalPERS didn’t include an index against which to compare periodic returns. That’s bad enough but in the paragraph preceding that chart of returns, CalPERS added this deceptive reference:

With that sentence, CalPERS is encouraging the reader to compare the return from its private equity investments to an inappropriate target that includes non-equity investments. That’s like your mutual fund encouraging you to compare your stock fund to a lower-yielding fund consisting of not just stocks but also bonds and cash.

There is a right way for CalPERS to report and compare its private equity returns — and CalPERS already knows it, as Eileen Appelbaum and Rosemary Batt report here. So does every other sophisticated investor that invests in alternative investments.

It gets worse. The press release reported only one category of fees paid to private equity firms. At a minimum CalPERS should follow the lead set by Texas (see Table 8 on page 55 here) and report all fees in one spot.

Performance of Private Equity Investments of the California Public Employees Retirement System: What are the Issues?

On November 16, the staff and board of CalPERS, the California Public Employees Retirement System, held a review of its investments in public policy. This presentation reviews the major issues the pension fund should consider.

We begin by noting three main points.

First, investments in private equity are riskier and more illiquid than investments in public equities (the stock market). Higher risk can only be justified if the investments result in higher returns than are possible with less risky investments. That is, investments in private equity should have higher returns than stocks — they should beat the market and yield a premium over passive investments in a stock market index by a large enough amount to be worth taking on the extra risk.

Second, private equity (PE) funds performed pretty well in the decade from 1995 to 2005, with the median fund launched in each of those years beating the Russell 3000, a stock market fund made up of companies similar in size to those in private equity portfolios. However, the median fund in every vintage launched in the years after 2005 has failed to beat the market. Investors in half the funds launched after 2005 would have done better investing in an index fund that mimicked the Russell 3000.

Third, CalPERS PE investments haven’t beaten its stock market benchmark in year-to-date, 3-year, 5-year, and 10-year windows. It does beat the stock market index in the 20-year time frame, but this is largely due to the stronger performance of PE funds a decade ago.

The state’s biggest public pension fund has repeatedly missed a key performance goal for its controversial private equity investments.

But a CalPERS committee said Monday that the fund’s staff could not strip language from a written policy that required them to aim to meet that benchmark – returns roughly 3% higher than the stock market to compensate for private equity’s risk.

By voice vote, the committee defeated the proposal to change the policy so that the new objective would have been simply “to enhance” the pension fund’s private equity returns.

“I think maximizing risk-adjusted rates of return is what this asset class is all about,” said J.J. Jelincic, one of the investment committee’s members during the meeting. “And so I do think that should be put back in.”

The suggested policy change had been criticized by financial experts who said it would clear the way for CalPERS to continue to invest in the complex Wall Street sector – the buying and selling of companies — without requiring higher returns to compensate for the added risk.

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The proposed policy change came after many years where CalPERS failed to meet the so-called “risk-adjusted” benchmark.

For the year ended June 30, for instance, private equity earned a seemingly healthy 8.9%, but that was lower than the 11.1% goal.

A recent report by a CalPERS’ consultant acknowledged that the private equity investments had also failed to beat benchmarks over the last three, five and 10 years.

Appelbaum said that CalPERS would have made the same amount over the last 10 years if it would have just invested in the stock market – but without the added risks or high fees.

At previous meetings CalPERS board members have discussed whether the private equity goal was too aggressive.

And in a press release Monday, CalPERS said it still planned to consider revising the benchmark next year.

We Won a Fight Against CalPERS Over Its Plan to Ignore Private Equity Risk

Honestly, I’m still amazed we prevailed, since usually by the time powerful and insular organizations like CalPERS are ready to implement new (bad) policies, the scheme is too far advanced to be halted.

On Monday, December 7, we saw a remarkable agenda item on CalPERS’ website that was set for a vote at the Investment Committee meeting the following Monday December 14. Here’s the overview from our post on Friday, based on our Bloomberg op-ed that ran last Thursday, December 10:

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But a key effort came from Eileen Appelbaum and Rosemary Batt, the co-authors of the highly respected book Private Equity at Work. They placed an op-ed at the Sacramento Bee, which ran in its print edition Monday morning, right before the board vote. The two things that CalPERS is afraid of is the Sacramento Bee and the state legislature.

CalPERS apparently demanded a retraction but neither the SacBee nor Appelbuam and Batt backed down. CalPERS’ argument boiled down to claiming that they weren’t eliminating the private equity benchmark in the Monday vote. But it was not hard for independent parties to see the game CalPER was playing. By eliminating the policy language that returns be risk adjusted today, they could axe the risk-adjusted benchmark in 2016 when they review and revise all their benchmarks.

I saw most of germane section of the board meeting today (unfortunately I got a phone call at the wrong time, so I did not see it all). The CalPERS staff came in signaling that they were prepared to give ground. Remarkably, the board actually had a discussion of issues, something that rarely happens. The Los Angeles Times, in CalPERS shelves controversial private equity policy, gave a recap:
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In other words, despite CalPERS’ efforts to depict foundational concepts of finance like being paid more to assume more risk from its strategy document as “vague and untestable,” one of CalPERS’ key consultants spoke up against the underlying premise. Andrew Junkin’s remarks at the meeting were even stronger than the Los Angeles Times extract.

Recall that we’ve documented that one of CalPERS’ other major consultants, Pension Consulting Alliance, has been pushing the idea at CAlPERS and CalSTRS of the indefensible idea of an “absolute return” which is tantamount to “no benchmark” and that the CalPERS chief investment officer Ted Eliopoulos has worked similar language into some of his overviews of private equity. So Junkin is to be commended for putting the kibosh on this effort.

Not that CalPERS is giving up, mind, you. The Los Angeles Times says the giant pension fund “still planned to consider revising the benchmark next year.”

CalPERS will attempt to make a rebuttal in the SacBee later this week. This ought to be entertaining. They have yet to learn the wisdom of the saying, “When you are in a hole, quit digging.

Most important, thanks to readers for all your interest and support and most of all, for those of you who wrote letters and made calls to state officials and media outlets in California, for your efforts. They can and do pay off!

The Government Pension Investment Fund’s $64.22 billion loss comes in the wake of a global selloff

TOKYO—Japan’s public pension reserve fund, the largest of its kind in the world, posted its biggest quarterly loss since the financial crisis for the quarter through September, dragged down by a global stock selloff.

The Government Pension Investment Fund lost ¥7.89 trillion ($64.22 billion) in the three months to September, or 5.59%, bringing the value of its total assets to ¥135.1 trillion. That was the largest percentage-point fall on quarter since 2008. Of the four major asset classes the GPIF invests in, three—domestic stocks, foreign stocks and foreign bonds—posted negative returns in the quarter.

The release gives a view of how pension funds, endowments and sovereign-wealth funds around the world were hit by a global selloff that erased trillions of dollars in value from financial markets amid concerns about growth in China and expectations for an interest-rate increase in the U.S. Norway’s sovereign-wealth fund, the largest in the world, lost 4.9% in the third quarter, its worst quarter in four years.

The GPIF’s loss drew criticism from opposition politicians at home, where there is widespread public suspicion about the fund’s decision last year to increase equity holdings. Opposition Democratic Party of Japan lawmaker Renho, who goes by one name, tweeted about the loss: “Pension reserves need to be managed with stability, not high risk, high return.”

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At the end of September, the GPIF had 38.95% of its portfolio in domestic bonds, 21.35% in domestic stocks, 21.64% in foreign stocks and 13.60% in foreign bonds. The numbers confirmed that the fund has completed a portfolio reshuffle that it announced in October 2014.

Illinois SURS in danger of running out of money to pay retirees, CIO says

Illinois State Universities Retirement System, Champaign, is at risk of running out of assets to pay pension benefits during the next 10 years.

“SURS faces the real risk that the assets could be depleted in less than 10 years,” Daniel L. Allen, chief investment officer, wrote in an Aug. 28 memorandum outlining the pension fund’s 2016 investment plan, according to recently released investment committee meeting minutes.

“The continuing challenge to SURS remains the funding status of the plan,” Mr. Allen wrote. “Despite strong long-term returns, SURS remains substantially underfunded. SURS is approximately 44.6% funded as of June 30, 2015. The unfunded liability is estimated to be approximately $21.5 billion.” Over 25 years, SURS’ investment return is an annualized 8.3%

That unfunded liability might have grown. It was based on assets of $17.3 billion as of June 30; as of Oct. 31, SURS had $16.8 billion.

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“The investment and contribution experience in the next five years will be crucial in determining whether the plan will remain sustainable or shift to depletion,” Mr. Allen wrote. “On a positive note, over the past three years, financial markets have been relatively favorable, and funding from the state of Illinois has been more consistent.”

Let’s go to the graphs:

Mmmm. Yeah, I find the 10 years believable.

Yes, they’ve boosted contributions recently, but they still fall short.